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What NOT to do when running a lumberyard

By Tony Misura

What NOT to do when running a lumberyard
WHAT NOT TO DO WHEN RUNNING A LUMBERYARD Despite the presence of the #1 LBM Dealer in their market, some independent dealers are still capturing high-profit market share. Smart operators know big competitors have big blind spots these dealers have learned to exploit through smart, strategic decisions. On the other hand, poor leadership can lead to money-losing decisions that can quickly overwhelm what once was a profitable operation. Here's a case study showing the price a dealer can pay for its bad choices. A family business with a vertical in the agricultural industry wants to diversify away from the overburdened governance in farming and decides to buy a lumberyard. Let's call it "LumberCo." The agriculture family's investment buys a 7-acre lumber yard that generates $25 million in sales and $1.75 million EBITDA. It's located on the southern edge of a top 25 metro city. LumberCo's historical customer mix was predominantly single-family remodeling and custom new home construction builders. Lumber, plywood, and OSB sales made up only 20% of total revenues. Rather, the old LumberCo's gross margins came from special- orders, siding, windows, doors, trim, and decking programs. The founder/operator of the yard retired upon selling the business. LumberCo's new CEO was previously a regional VP from the #1 LBM Dealer. That company also happens to be the LumberCo's biggest competitor in this market. But despite the size of the opposition, LumberCo's board and executives were confident in their growth plan. The business case was simple: Builders are frustrated with the #1 LBM Dealer's gouging and high gross margins. These builders are searching for a more supportive dealer. LumberCo leaders also believe the #1 LBM Dealer was bullying vendors, so there was an opportunity to peel away suppliers. And best of all, this robust market enjoyed a high volume of projected new housing starts. All those are factors figured in the robust budget forecasts. So, LumberCo launches. The CEO swiftly recruits four outside salespeople from his past company with a history of selling national tract production builders. The CEO announced at the Board meeting, "With these top four OSRs' history of industry relationships, we will take share from the #1 LBM Dealer and double our sales volume in the next 12 months." Given the robust projections of the CEO and Sales team, plans for a second location on the north side of the metro also made sense. Fortunately, LumberCo's farmer owners already owned property on the north side—and near a freeway exit! Trading a soybean field for a lumberyard appeared to be a simple, low-cost venture. The initial signs of trouble came when LumberCo's first quarterly P&L missed sales and profit targets. It turned out that top vendors were not interested in opening accounts with LumberCo, so it was forced to rely heavily on two-step wholesalers. The CEO, preferring a high inventory turn approach, opposed buying lumber futures as a hedge against price hikes. So when lumber prices pivoted, LumberCo found itself buying lumber and panels at a price higher than already-sold tract builder contracts. Due to a lack of competitive advantage, the OSRs were forced to sell solely on price. But the OSRs didn't care because they had pricing control and were compensated on gross sales. LumberCo quickly earned the Streetwalker title of the market, selling for 9%-11% gross margins projects, below the cost to serve. LumberCo's fleet and transportation costs were three to five times higher than forecast due to the OSRs selling projects up to 200 miles away on the far north side of the metro before the Northside yard was completed. Such distances overstressed delivery driver and truck capacity. One board member suggested LumberCo use a sub-contractor trucking service, a standard efficient solution in the agricultural industry. But sub-contractor trucking companies rarely achieve the timelines expected in LBM. In time, tract builders were irate over lost labor costs due to LumberCo's poor delivery record. Opening that greenfield lumber yard proved to be a 2- 1/2-year process versus the one-year timeline that the CEO and Board projected. Adding to the investment stress, the cost of creating that greenfield yard was several million dollars over budget. So, three years in, LumberCo became a two-location company with $35 million in sales but losing $1.7 million annually. The owners had invested a total of $9.3 million. The CEO claimed these losses were temporary, saying that once the second location opened, delivery costs would decline back to within budget, and through sheer determination, they would gain vendor support and lower the cost of goods. The agricultural family owners and the board supported the CEO and accepted his idealistic explanations. The board directed concern toward the OSRs for their distressed P&L and recommended hiring a sales manager to control pricing and raise margins. The CEO was fighting the board, as he knows the OSRs will return to the #1 LBM Dealer if they are held accountable for achieving gross margins and selling more specialty-less commodity products. The CEO was stuck because these OSRs generate 75% of the company's current sales. This cascade of errors brings to mind a line from jet fighter pilot Hasard Lee: "There is no problem so bad you cannot make it worse." Where did LumberCo go wrong? It evaporated in large part because the CEO and the Board did not understand how to create a strategic plan. Being strategic is about collecting and ranking competitive marketing knowledge and facts without emotional bias. It is not about what someone thinks – in the case of the LumberCO CEO, strategic planning was a self-absorbed exercise in "who is the smartest person in the room." Had the CEO completed a market assessment, they would have known that the #1 LBM Dealer's greatest strength in the market was serving the national tract, single-family home builders. Absent a unique competitive service or product offering, the only way to win in a primary commodity dealer business is by possessing more efficient purchasing and transportation logistics than the competition. But when you're a $35 million business, and the competitor’s sales are in the tens of billions, what is the purchasing leverage gap? My guess is 4 points of profit is a good place to start. The #1 LBM Dealer also has significant logistics asset advantages in real estate, rail spurs, reload centers, equipment, and technology. Together, they're likely worth another 2 points of profit. Out of the gate, LumberCo is potentially at a 6-point profit deficit to its major competitor. Smart Independent LBM Dealers successfully serve the national builders within their competitive advantage, typically anchored with some combination of off-site manufacturing and installed services. Remember that when acquired, this company was earning $1.75 million on $25 million in sales. Where did those profits go? If the LumberCo CEO had completed a market assessment, it would have pointed to #1 LBM Dealer's blind spot in the high custom remodeling and new home construction space. They could have continued to build on the legacy customer segment of the original business they bought. Granting the OSRs pricing control and a commission program based on sales volume, relying on subtracted delivery services, and shifting the product mix to low-margin commodity lumber and OSB products are all cascading decisions. They also stem from the same core problem: Going head-to-head over tract builders in a top metro market despite a weak competitive position against the #1 LBM Dealer. Fortunately, under the right leadership, LumberCo does have a few organic and M&A paths to profitability. Solutions will rely on the owner's access to capital, risk tolerance, and leadership competencies at the board and CEO positions. Independent LBM Dealers have a great opportunity in today's market. Leaders who make intelligent, decisive, and strategic moves are capturing high-profit market share. The larger your competitor, the greater their blind spots become. We thrive on helping independent LBM leaders find and exploit their competition's weaknesses. Reach out to learn about Misura Group's list of C-level executives looking for Board of Director and Board of Advisory roles. Hire Smarter™ - Tony Misura
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